Fed to maintain interest rates, cautious on recovery

The Fed said Wednesday that short-term interest rates will stay at record lows and that the US job market is improving. However, the Fed cautioned that government spending cuts and tax increases could slow the economy.

The Federal Reserve said Wednesday that the U.S. economy has strengthened after pausing late last year but still needs the Fed’s extraordinary support to help lower high unemployment.

In a statement after a two-day meeting, the Fed stood by its plan to keep short-term interest rates at record lows at least until unemployment falls to 6.5 percent, as long as the inflation outlook remains mild. And it said it would continue buying $85 billion a month in bonds indefinitely to keep long-term borrowing costs down.

Investors seemed pleased with the Fed’s decision to maintain its low-interest rate policies. The Dow Jones industrial average was up 76 points nearly an hour after the statement was released at 2 p.m. (1800 GMT), up 32 points from just before. The Standard & Poor’s 500 stock index also added to its gains on the day.

The unemployment rate has fallen to a four-year low of 7.7 percent, among many signs of a healthier economy.

The Fed noted in its statement that the job market has improved, consumer spending and business investment have increased and the housing market has strengthened. But its latest economic forecasts, also released Wednesday, show that the Fed still doesn’t expect unemployment to reach 6.5 percent until 2015.

The Fed also cautioned that government spending cuts and tax increases could slow the economy. It predicts that growth won’t exceed 2.8 percent this year, slightly lower than its December forecast of 3 percent.

A total of 13 Fed officials still think the first rate increase won’t occur until 2015, the same number as in December. One Fed official thinks the first boost in the short-term lending rate won’t occur until 2016.

The statement was approved on an 11-1 vote. Esther George, president of the Kansas City regional Fed bank, dissented for a second straight meeting. She reiterated her concerns that the Fed’s aggressive stimulus could heighten the risk of inflation and financial instability.

Though the Fed’s low interest-rate policies are intended to boost borrowing, spending and stock prices, they also hurt millions of retirees and others who depend on income from savings.

“Things are not going to get better for savers,” said Greg McBride, senior financial analyst at Bankrate.com. “Rates are going to stay low for borrowers, and the Fed’s accommodation will continue to be a positive for the stock market. Right now, the market is addicted to Fed stimulus.”

The economy slowed to an annual growth rate of just 0.1 percent in the October-December quarter, a near-stall that was due mainly to temporary factors that have largely faded. Economists think growth has rebounded in the January-March quarter to an annual rate around 2 percent or more. The most recent data support that view.

Americans spent more at retailers in February despite higher Social Security taxes that shrank most workers’ paychecks. Manufacturing gained solidly in February. And employers have gone on a four-month hiring spree, adding an average of 205,000 jobs a month. In February, the unemployment rate, though still high, reached its lowest point since December 2008.

One reason for the Fed’s reluctance to reduce its stimulus is the history of the past three years. In each of the three, economic prospects looked promising as the year began. Yet in each case, the economy stumbled.

In 2010, U.S. growth was hurt by turmoil from Europe’s debt crisis. In 2011, a spike in gas prices and supply disruptions caused by Japan’s earthquake and tsunami dampened growth. And in 2012, higher gas prices cut into consumer spending.

Though the economy has brightened this year, it still faces threats, including across-the-board government spending cuts that took effect March 1 and are expected to trigger furloughs and layoffs.

The Fed’s forecasts for the economy are rosier than those issued by the Congressional Budget Office. The CBO has warned that the government spending cuts, along with the Social Security tax increase and higher taxes on top earners, could slow growth by 1.5 percentage points this year, to 1.5 percent.